What would the collapse of the euro mean for the UK?

There is speculation today that if the eurozone breaks-up, it could in fact help the UK's economy longer term than if it survives.
Polly Curtis rounds up opinion on the implications of a euro meltdown for the UK. Get in touch below the line, email your views to polly.curtis@guardian.co.uk or tweet
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Updated

Pounds and euros. Photograph: David Levene for the Guardian
David Levene/Guardian

If Greece can't agree its austerity measures it could fail to get further bailouts causing it to default on its loans and ultimately meaning it could be expelled from the eurozone. If this scenario happens, then it's widely expected that other weak economies such as Portugal and Ireland could go too. The biggest worry at the moment is that larger economies, such as Italy and Spain, may also be vulnerable. What was once unthinkable is looking increasingly likely: that the Greek crisis triggers the disintegration of the euro.

But what could it mean for the UK?

There are broadly three ways in which a eurozone break-up might affect the UK:

The threat to banks owed money by defaulting countries

UK exposure to bad Greek debt is relatively small compared with Germany and France. But UK banks are still linked to banks in more vulnerable countries through the sale of insurance and other guarantees on debt default. Another bail-out in the UK is unlikely, but UK banks would ultimately have less to lend, potentially creating another credit crunch and stunting economic growth.

Competitive effects

If the euro collapsed each member country would get a new currencies with some flourishing and others devaluing rapidly re-drawing the relative competition of EU states and creating huge uncertainty.

A reduction in exports

Spending retrenchments across the EU as other countries are forced to bail out their banks would mean exports would almost certainly contract, slowing the UK's economic growth even further.

Speculation about the impacts of the possible break-up of eurozone is rife. It is of course only speculation and the only thing economists really agree on is that a double dip recession in the UK is becoming increasingly certain as the eurozone crisis intensifies, particularly given the current weak growth figures. The collapse of the euro would guarantee another recession.

In the past week alone the follow theories have been offered about how this might play out:

• Yesterday, Erst and Young ITEM Club's Autumn growth forecasts, reported here in the Sunday Times (£), predicted that the eurozone crisis in which Greece, Portugal and Ireland all left the euro could cut UK GDP by 4%, knocking its economy back six years resulting in a deep recession.

• Today, the Centre for Economics and Business Research, forecasts that the collapse of the euro would trigger a recession in the UK, but that recession is all but inevitable anyway and if it is preceded by such a catastrohpic event it could be briefer, and the recovery sooner. The Telegraph report here says that if the eurozone collapses then tough austerity budgets that threaten counties' growth could be relaxed and northern European currencies could become relatively stronger, aiding Britain's export's markets. "If it breaks up the immediate pain is much more intense, but then there is a more stable basis and we would expect that within about 30 months growth will actually be faster than if the eurozone survives in its current form," the CEBR concludes.

I've just been speaking with Douglas McWilliams, a former chief economist of the CBI, who now runs the Centre for Economics and Business Research, which is a for-profit consultancy. He said:

In the short run a breakdown of the eurozone would make things more painful. But in the long run it would be better. You'll have to suffer concentrated pain in a six month period rather than along drawn-out recession. There are other thing that may make it less painful. I'm slightly suspecting that if concentrating pain in short period there would be more effective government reaction a lot of printing money and probably fiscal expansion in Germany for example. Once you've hit the bottom you get a lot more fiscal action in stronger economies including Germany. Concentrating the crisis into a short period will force hands.

It's also worth noting that there is a heavy price-tag to saving the euro if it means further IMF bailouts of ailing economies. The chief secretary to the treasury confirmed yesterday that the government could raise its £29.4bn lending commitments to the IMF to £40bn without a commons vote

12.11pm update: I've just had a fascinating conversation with John Kay, a respected economist and FT columnist. He makes two important points: the first, that the issues of Greece defaulting or leaving the euro are not inextricably linked. He argues that Greece could fail to pay its debts without leaving the euro and too many (perhaps including me, above) have made that assumption. The second, is that the risk to the UK is a crisis that would start in the financial sector, where banks stop lending, rather than other sectors. He argues that UK economy's destiny rests with the financial sector's reaction to a breakdown in the eurozone, not the breakdown of the eurozone itself. He said:

David Sillitoe/Guardian

There is a desperate anxiety in the financial community to say that unless governments give us lots of money and pay off our debts the world will come to an end - without being very specific about how it comes to an end. We are enthralled to the financial community as we were in 2007 and 2008. They are saying if you don't give us loads of money we will bring the world as you know it crashing down around your ears. To some degree they can do it, it's not an empty threat.

As far as an ordinary British business is concerned if the eurozone collapses new currencies are created and some go up and some go down. That's what happens. But the real impact is what happens in the financial sector and how that impinges on them. That's the story of 2007/08. It was the knock on consequences if you couldn't get a loan from your bank rather than a crisis in America. As in 2007-08 this is a financial sector problem and that sector will work very hard to make it into a problem for the rest of us one way or another. Until we tackle that culture, it will keep reoccurring.